By Marlize van Romburgh Friday, July 1st, 2011

For the bargain price of $700,000, Mission Community Bank is making an acquisition that will double its size and mark what its chairman says is the first step toward becoming a “super-regional bank for the Central Coast.”

Mission Community announced June 27 that it plans to acquire Atascadero-based Santa Lucia Bancorp, a struggling firm that has come under fire from regulators in recent months for low capital levels and problem loans.

Mission, based San Luis Obispo, is backed by Carpenter Fund Manager, a private equity group that has invested in a number of banks around the country. The Irvine-based fund began injecting at least $25 million into Mission in 2009 with an eye toward acquisitions. In 2010 it recruited retired banker Jim Lokey to head up the bank’s board.

Lokey is the former CEO at Mid-State Bank & Trust who guided that bank to the most successful bank merger in tri-county history when Mid-State was sold to Dutch giant Rabobank. Lokey told the Business Times last year that he came out of retirement to help Mission expand.

“The proposed merger lays the foundation for our Central Coast initiative,” Lokey told the Business Times on June 27. “We see our natural territory as the four-county region from Ventura to Monterey County. Eventually, where we are going is to build the next super-regional bank for the Central Coast.”

The proposed deal also speaks to a trend that has emerged in the aftermath of financial reform: Many smaller banks, especially those with fewer than $500 million in assets, are looking to their neighbors or larger institutions and wondering if they might be better off combining forces as a way to deal with higher regulatory compliance costs.

In Ventura County, struggling Ventura County Business Bank is working out a deal to be acquired by Royal Business Bank, a larger lender that specializes in trade finance. The deal, announced June 16, is expected to close in the third quarter of the year. It would give the Oxnard-based bank much-needed capital and gives its larger counterpart access to the trade business connected to the Port of Hueneme.

In 2010 — a year that saw two tri-county bank failures — California Oaks State Bank in Thousand Oaks was acquired by larger California United Bank in a $17.2   million deal.

“The mergers mean that the surviving institution is stronger and better able to participate in the local economy, and that is good,” said Bill Watkins, an economist at California Lutheran University and director at Ventura County Business Bank. “Certainly the regulators would like to see additional consolidation, and the long-term trend is for fewer banks.”

Both Mission and Santa Lucia suffered losses last year — $6.7 million and $14,754, respectively — but Mission has the benefit of being backed by a deep-pocketed private equity group. After cleaning up its books and recapitalizing last year, the bank started to shop around for other Central Coast banks to acquire. “Many banks like us are looking at the opportunities that are out there to perhaps merge together and create a bank of a size that can be competitive,” Lokey said.

Meanwhile, Santa Lucia was fending off regulatory failure. Bank regulators issued an order in December 2010 telling the lender to shore up its reserves and address problems with its lending, operations and management, as well as possibly find a strategic partner to work with. Santa Lucia’s share price has dwindled from above $6 a year ago to less than 50 cents in recent weeks and closed at 32 cents on June 27.

Doubling in size

The bank created by the merger will have six branches — the same number that Mission currently has — but twice as many assets.

At the end of the first quarter, Mission had $174.7 million in deposits and assets of $217.6 million, making it the eighth largest bank based in the Tri-Counties. When the deal closes, it said it would have more than $400 million in deposits and $460 million in assets — moving it up to the No. 6 spot on the Business Times ranking.

Even after it doubles in size, Mission will remain smaller than Heritage Oaks Bancorp, the Paso Robles-based firm with operations in San Luis Obispo and Santa Barbara counties and assets approaching $1 billion.

As of March 31, its last reporting date prior to the acquisition announcement, Santa Lucia Bancorp had deposits of $230.7 million and assets of $246.3 million. It has branches in Atascadero, Paso Robles, Arroyo Grande and Santa Maria and 76 full-time equivalent employees. Lokey said Mission is still evaluating how many of those branches it will keep open and how many employees will keep their jobs. Whether Santa Lucia’s executives will remain on board also remains to be seen.

Details of the deal

The proposed deal is a complex transaction that requires U.S. Treasury participation, as well as approval from regulators and shareholders:

• Santa Lucia shareholders would receive 35 cents per share. With about 2 million shares outstanding, the total sale price comes to $700,000 — a slight premium over Santa Lucia’s market capitalization of $641,160 on June 29.

• The deal would also have Mission repaying the Troubled Asset Relief Program, or TARP, funds that Santa Lucia took from the U.S. Treasury at the height of the financial crisis. Lokey said that amounts to about $3 million.

• Mission will make its formal application to regulators around the third week of July, Lokey said. Santa Lucia will go out to its shareholders soon after to gain approval, putting the deal on tap to close in early October.

• Once the deal is done, the new institution will raise up to $25 million in fresh cash, Lokey said, to keep its capital levels high enough to satisfy regulators and allow it to make new loans. That money will come in part from the Carpenter fund, and in part from institutional investors.

“We’re calling it the Central Coast initiative,” Lokey said. The idea is that three to four institutional investors will partner with Carpenter to invest in Mission and its ambitious goal to consolidate small and mid-sized banks along the coastal swath from Ventura to Monterey counties.

‘Super community bank’

“We’re focusing on our own back yard to hopefully be the preferred consolidator if a bank would choose to merge,” Lokey said. “We’ve worked closely with our regulators to become the acquirer of choice.”

To that end, Mission recapitalized last year and worked to get problem loans off its books. The holding company formed a subsidiary called Mission Asset Management. The bank then worked to mark those loans down to what’s considered fair market value, and sold those to the new subsidiary, where the loans were sealed off from the bank, essentially incubating them and letting the core bank nurse its balance sheet back to health. A team was put in place to work with problem borrowers whose loans had been handed over to the subsidiary.

The loan write-downs resulted in a $6.7 million annual loss for Mission, but Lokey said that theoretically the one-time hit should mean the banking firm can now move forward profitably. “The bank that’s left is a very healthy bank,” he said.

Mission will look at doing a similar markdown process with Santa Lucia, which had $22.8 million in non-performing loans — 12.7 percent of its total loans — on its books at the end of March.

Watkins, the economist, said less bank failures are a good thing, but too many mergers can result in fewer banking options. “While stronger institutions are an improvement over zombie banks, I think communities are well served by a mix of local banks and large institutions,” he said.